Designing incentive plans for sales territories with “lumpy” demand
In last month’s edition of the Corner Office Gazette E-Notes we discussed sales territories with “lumpy” demand resulting from the selling of disparate products to the same customer base, and the impact of such sales demand upon goal-based incentive pay plans.
We used as an example a distribution company selling specialized printing supplies to smaller art and print shops. The typical supply buyer purchased $2,000 to-5,000 in supplies annually. The supply orders were relatively small, ordering was frequent and the underlying business demand was stable. Hence, supply revenue was very predictable.
The same sales force also sold modestly expensive capital equipment in the form of printing presses and drying/curing units to their customer base. The average purchase could be up to $50,000 per unit, or above. The presses could represent a very large “lump” in the typical territory revenue plan, and a handful of printing-press sales could drive a sales territory well over its goal for the year—or drive it well under plan if press sales did not come in over the transom. The demand for presses was believed to be unpredictable by the sale force, and equipment profit margins were much lower than those of supplies.
In an environment of predictable sales volume and demand (like that of printing supplies), one can successfully reward the sales force based upon achievement of each sales rep’s territory annual sales goals using goal-based incentives. In other words, the sales representative earns an incentive or bonus based upon their annual results versus the territory’s annual sales goal. A competitive incentive (say $30,000) is earned when the annual sales goal is achieved. Then more or less annual incentive is earned for achievement of results above or below the territory goal. But below a certain level of annual performance versus goal, no annual incentive is earned. An example of the workings of a typical goal-based incentive plan is included in our April 2011 E-Notes.
Goal-based incentive plans are most often successful if the year’s sales (or profit) results can be expected to fall within a range of ±25% of the expected goal–i.e.: 75% to 125% of goal. When results outside of that range are routinely experienced, the plan will become high maintenance for company management and ultimately devolve into discretionary payouts. That was precisely the impact of throwing printing press sales into a steady stream of supply orders.
While this is an interesting example, let us stop for a minute and ask the question: Do you also have sales territories with lumpy demand? Use three criteria to try to answer that question. If you answer yes to two or more of these, you may qualify.
- An order for the diverse product (printing presses in our example) is 10+ times larger than the average territory order (for say, supplies);
- The demand of the diverse product is not part of the annual sales forecast—upon which compensation goals are based; and
- The sales demand for the diverse product can amount to 25% of annual territory sales volume, or more.
So if you think you have this problem, read on. Otherwise, read on anyway—we are about to offer a solution with broader applications.
We suggest using an alternative incentive approach that recognizes the two discrete streams of income with very different demand characteristics through the use of supplemental sales bonuses. With such an approach, the sales force will have a “normal” goal-based incentive plan for supplies (only) designed to work well in that supply-buying environment. Then as an extra or add-on (like a cherry on a sundae), there will be a special bonus paid for the sale of each press or other select pieces of capital equipment. The amount of this special bonus will generally vary by such factors as: number of machines sold annually (and dollars), type of product (i.e.: profit margin), key customer or strategic product placements. But, it must be a big sale to qualify. Also remember that a bonus (or any payout) must be material in size to get the attention of the seller. Hence if selling a press or other big-ticket item is a big deal, the bonus paid should be north of $1,000.
You can get pretty creative with such a bonus. It can both drive sales and simplify the communication and application of sales incentive. However, be sure that you now also insist that every sales territory and sales rep has an annual equipment goal in units and dollars. This bonus is just not gravy for the sales force; it recognizes important strategic actions in a straight forward way. And bonus or not, the sales team is responsible for achieving their equipment goals too. Further, if they begin to be able to reliably forecast these sales, you have not only solved an incentive-plan problem, but also a core business problem.
The incentive approach outlined above also can apply to any outlier product or service. We find the use of these types of add-on bonuses is very useful in solving real world marketing/sales problems and making sales pay plans more effective.
I would bet you can find a use for bonuses in your sales pay plans. Just look around a bit.